“AN OVERVIEW OF THE BRAZILIAN TAX SYSTEM AND OF SOME

INTERNATIONAL EXPERIENCES CONCERNING TAXATION:

PROPOSALS FOR BRAZILIAN TAX REFORM FROM 2003 ON”

FINAL PAPER SUBMITTED AS REQUISIT OF CONCLUSION OF THE PROGRAM

“THEORY AND OPERATION OF A MODERN NATIONAL ECONOMY”

Author: Fernando Cunha

Advisor Professor : Reid William Click

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“In the world nothing is certain, except death and taxes.” (Benjamin Franklin, 1789)

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SUMMARY

1 - Objective………………………………………………………………………..... 4

2 - Introduction………………………………………………………………………. 5

3 - Fiscal, public and tax policies in modern governments………………………….. 6

3.1 – The role of fiscal policy……………………………………………………. 8

3.2 – Public policies…………………………………………………………….... 10

3.3 – Tax policy………………………………………………………………….. 11

4 - Tax reform: some experiences………………………………………………….... 14

4.1 – The 1986 tax reform in USA………………………………………………. 14

4.2 – Tax reform in the UK during Thatcher’s period………………………….... 15

4.3 – Swedish tax reform during the 1980’s……………………………………... 17

4.4 – Tax reforms in Latin America during the 1980s and the 1990s………….... 18

5 - Brazilian tax system and the tax reform………………………………………….. 19

5.1 – Current Brazilian tax system……………………………………………….. 19

5.1.1 – Discussion on the five great revenue generators…………………….. 20

5.2 – Some aspects that should be considered on Brazilian tax reform process…. 27

5.2.1 – Problems of the current structure……………………………………. 27

5.2.2 – Role of tax administration on a tax reform process…………………. 28

5.2.2.1 – Focus on large taxpayers: advantages and disadvantages……. 30

5.2.2.2 – Simplification Schemes………………………………………. 32

5.3 – Tax reform and the global economy……………………………………….. 32

6 - Conclusion………………………………………………………………………... 35

7 - References………………………………………………………………………… 39

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1. OBJECTIVE

Due to impending of Brazilian tax reform - which should occur totally

by the end of 2003 but was transformed long process - the objective of this paper is to discuss

some aspects that could be considered relevant to reach a more rational tax reform in Brazil.

This is done comparing some aspects of Brazilian tax system with models experimented in

some other countries, and aims to propose alternatives that can be translated into the

increment of the following aspects: tax equity, progressivity of the system and equilibrium of

levy distribution between the various federative units. Are also being considered, when

pertinent, their effects on economic factors, mainly those related to growth and unburdening

exportation. For that, it is used information from Latin America, United States, United

Kingdom and Sweden.

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2. INTRODUCTION

In Brazil, the levying of tax revenues of federative units (federal

government, states and municipalities) occurs according to the parameters established by

1988’s constitution and its posterior modifications.

Since some time ago that diverse economic sectors, directly or

through their representatives (associations, commissions, etc.), criticize Brazilian tax

structure, arguing that it is extremely burdensome to production, creating obstacles to job

creation, to GDP increasing and demand increasing and to the improvement of external

competitiveness, being an entanglement to growth and development of the country.

Recently, during the 1990’s, there was government’s intention of

accomplishing a tax reform that could solve the diversity of private and public sectors needs.

Although, this intention was translated just in punctual alterations, that did not imply in deep

modifications intended by productive sectors or by the rest of society. For that reason, present

federal government suffers pressure to accomplish alterations in the tax systems in a more

effective way; adapting legislation to needs not attended beforehand. Some authors consider,

however, that if by one hand tax reform can increase levying from R$40 up to R$60 billion

reals, by the other side it could change the ratio of taxes over GDP from 36.45% to around

41%, what could result in negative effects on economy (Otoni, L. et al.).

Currently, states and municipalities have been absorbing, respectively,

around 25-30% and 15-20% of what is collected, while the Union keeps the remainder

(Brandão, C. Gazeta Mercantil, 15/08/03; Diário do Comércio, 15/08/03). Despite the fact

that representatives of each level of government are aware of perverse effects of excessive tax

burden on economy, the process of passing the constitutional amendment in National

Congress which treated on tax reform demonstrated that each level – and, inside it, each

branch - reached to increase their participation in tax levying to the detriment of other ones. It

happens because each federative unit and each level are rubbed, by one side, by social

demands for better services and programs of health, education, transportation, etc, and, by the

other, by the Fiscal Responsibility Law, which limits the expenditures of all levels in each

federative unit and branch, even forecasting severe penal sanctions to representatives that

spend over what is levied.

Thus, can be perceived that the search of federative units for resources

coming from tax revenues as a whole exhibits an adverse position to that intended by private

sector, which aims tax burden diminishing.

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3. FISCAL, PUBLIC AND TAX POLICIES IN MODERN GOVERNMENTS

Public transactions are different from private ones, and people’s

attitudes toward both vary. Private transactions occur as relations of change, where one pays a

specific amount for a specific good or service. With taxes, by the other side, the payment is

for services or goods not directly received, giving the impression that taxes are confiscatory

and not a payment. Besides, different groups want to pay for different public services, giving

the sensation that taxes pay for something that is disliked, putting government in a political

troublesome (Steinmo, 1993, p.194).

As public transactions are different from private ones, people’s

attitudes toward both are distinct. Compensation is what directs private transactions, because

generally one pays for a specific amount for a specific service or good. With most taxes,

although, payment is for services that are not directly received, leaving the impression that

taxes are forfeiting not a payment. Besides, taxpayers often correctly believe that their taxes

pay for something they do not like. For example, for left wing voters, taxes can pay too much

for military expenses, and for right wing ones, taxes pay for too many welfare programs.

To understand how fiscal, public and tax policies are intertwined, it is

necessary to understand what population expects from politicians and their policies

concerning those three subjects.

It is necessary because modern states present an amazing dilemma:

voters are largely uninformed but rationally self-interested. As some benefits are diffuse,

citizens are insensitive to or unaware of the benefits received. Benefits as clean air, good

roads, educated workforce, national defense and the reduction of poverty are not well felt. By

the other hand, because taxes are direct, citizens are painfully conscious of the costs of

government, but they oppose paying for benefits that they do not perceive, and it happens due

to the complexity of modern government, which scope and reach of activities makes difficult

for citizens to evaluate cost versus benefits (Steinmo, 1993, p.193). Besides that, people do

not have a single definable and stable hierarchy of preferences that can or should be used to

decide between competing choices (North 1900 quoted by Steinmo 1993, p. 198).

Besides, there is another dilemma, which is the fact that citizens have

an insatiable desire for increased public spending, but they hate to pay taxes. It means that

citizens want higher public spending and lower taxes (Steinmo, 1993, p. 17), what puts public

officials in a difficult political position, and to attend citizens demands by one side of the

budget, they must go against what citizens want on the other side of the budget (Downs, A.

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“Why the government’s budget is too small in a democracy”. World Politics 12, 1960: 541-63

quoted by Steinmo, 1993, p.17).

Taxation differs from other policy issues because even antipolitical

citizens pay taxes, and it is reasonable to infer that taxation is a unique policy in that citizens

are more in contact than any other one. Although, it does not mean that citizens are well

informed about taxation. Otherwise, citizens are generally badly informed about the structure,

effects and design of their country’s tax system, being unaware of taxes that themselves pay,

being an exception the citizen who knows the percentage of tax on income, social security,

property and consumption (Steinmo, 1999, p.194). In Brazil, for example, this unawareness of

taxpayers concerning consumption tax is reinforced by the public power, because it is not

clearly informed purchase receipts what is the value of the good and what is tax, what makes

the ordinary taxpayer believe that what is paid in a purchased refers just to the whole value of

the good.

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3.1 The role of fiscal policy

Fiscal policy is the set of instruments used by government to influence

the working economic system in order to maximize economic welfare. The fiscal authorities

develop their role through four different functions: allocation, distribution, stabilization and

growth.

Allocation, in an organized society, is a function that is related to

production of certain output, called as public goods and services, whose collective or social

consumption makes them unprofitable for private production, and are basic to a continuation

of organized social life, including areas as defense, law, order and justice. The original

justification of taxation was the provision of government’s resources for the supply of these

public goods and services (Tanzi, 1991, p.1). Currently, with the complexity of governments,

each level of government may be more efficient in delivering certain governmental goods and

services. For example, national government is superior in delivering national defense or

national health programs, while fire and police protection are more suitable for local

government. Usually, allocation is a political factor, but should, as nearly as possible, reflect

the aggregate preference of community members (Kee, 2003, p. 5; Wolman, 1997, p.27

quoted by Kee, 2003, p.7).

Redistribution (or distribution), differently from allocation, is not

basic to the existence of organized society, since can be observed the existence of many

societies without an adequate redistribution of income. Brazil, one important regional

economy in South America and consistently ranked around the 10th economy in the world, is

an interesting example of that, being among the worst income distributions in the world.

Although, redistribution is a legitimate function of the government, because any organized

society that survives without this function could not be considered optimal by the most of its

citizens. A more even income distribution might increase total private saving because an

increase in the consumption of the lower income classes could increase their productivity and

incentives and, consequently, it would be seen as investment rather than consumption since it

would lead to an acceleration in the rate of growth (Tanzi, 1991, p.10). The existence of

regional and local redistributive policies is necessary, based on the fact that subnational levels

of government can provide, in a more specific way, the services most used by low-income

families, though most economists view the national role as primary (Kee, 2003, p.5).

9

Stabilization, which is a relatively recent role of the government, is

the objective usually most associated with fiscal policy, and is normally the most important

short-run objective aimed by developed countries1, which government’s role is to keep the

actual level of national income close to its potential, with a small level of frictional

underemployment of labor or capital. In those countries, stabilization policy is meant the

manipulation of aggregate demand in order to achieve, at the same time, full employment and

price stability. In developing countries, however, the situation is more complex, and

stabilization as an objective loses the simple and well-defined nature that exhibits in the

developed countries as, in the former, the concept of potential level of income is not easily

definable because substantial proportion of the labor force is underemployed rather than

openly unemployed and there is not an evident correspondence between full employment of

labor and full employment of capital. Despite balance of payments not be generally the major

objective of stabilization policy, it has, also, to be considered, because movements toward full

employment may be stopped by limitations of foreign exchange (Tanzi, 1991, p.10-11).

Although it is widely agreed that stabilization should be assigned

mainly to the national government because this function involves the management of overall

economic activity, in one analysis of 58 countries was demonstrated that exists a positive

relationship between economic growth and fiscal decentralization, suggesting, even, that some

role of infrastructure has to be conceded to local governments (Oates Wallace E. 1993.

“Fiscal decentralization and economic development”. National Tax Journal. 46 (2): 237-243

quoted by Kee, 2003, p.4-5).

The function of growth promotion is extremely important 2. Developed

countries do not have to concern too much with it because, to them, stabilization and equity

may be more worthwhile objectives. For developing countries, however, where per capita

incomes are generally very low, growth has to be an overriding target (Tanzi, 1991, p.11).

The acceleration of the rate of growth can be obtained with adequate

taxation and public expenditures. Although, in some cases, it can cause conflict with some

specific interests, because tax system has to transfer resources from some private sector to the

1 According to Tanzi (1991, p. 10) many economists consider stabilization and fiscal policy as synonyms, and the latter is generally considered the logical outgrowth of the Keynesian theory. 2 The argument that redistribution should be related to growth but that growth is more important is not completely true. In fact, despite the importance of growth, a more even distribution of income has to be preferred because it means a larger market for products produced by local industry, possibly leading market to a greater use of industrial capacity which was not being used and workers who were not being employed (Tanzi, 1991, p.10).

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public sector by reallocating private investment and consumption in directions that would be

beneficial to the growth of whole economy. With this transference, the public sector will get

to perform the following functions: (1) those which are basically role of the government, as

defence, police, administration, justice, etc.; (2) those which are related to the development of

the country, as creation of insfrastructures both economic (roads, railroads, dams, power

plants, etc) and social (education and health); (3) and redistribution of income (Tanzi, 1991,

p.11-12).

The importance attributed to fiscal policy stems from the fact that

productivity of public investment is closely related to the level and quality of investment in

private sector, because, sometimes, the first is seen as a kind of input to the second. Although,

the direct contribution of public investment to potential output is generally very low, and the

effect of productivity of private investment is what makes public investment desirable.

Because of that, in developing countries, the government has the responsibility of, besides

creating infrastructure, also monitoring the level and the quality of the private investment

forthcoming so that public investment can be maximized. Although, this fiscal policy does not

always receive the attention that it deserves (Tanzi, 1991, p.12-13).

3.2 Public policies

Public policies vary among countries, reflecting the importance of

political interests and values acting over the State. Those interests – mainly the short-term

ones - have to be considered because they influence the acquisition of more power, what

commonly is associated by each group as diminishing tax burden away from themselves. It

means that, the distribution of taxes is, mainly, the corollary of achieving interests by specific

groups or deriving from selfish ends 3. This kind of situation can be observed in Brazil mainly

concerning income tax and consumption taxes, which are extremely regressive. It happens

because legislative branch suffers lobby from the elite to maintain a more regressive system,

although a more progressive system in this kind of income should bring more benefits to the

country.

The difference in public policies is based on the demand of each

constituency, which has distinct values, but, as political values and ideas can be broad, hazy,

3 Steinmo (1993) argues that there are some exceptions. For example, socialists - who have prevailed in Sweden - should tax their supporters more lightly and the capitalists more heavily. Though, this did not happen, but the contrary. Some empirical observations demonstrate, is cross-national verifications, that some groups tend to define their interests distinctively in different national experiences, refusing the explanation that tax policy effects is based just on self-interest (Steinmo, 1993, p.4-5).

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and, sometimes, contradictory, they are not easily transformed into specific policies, that is,

any policy can be justified by a vast rank of values, and actual policy effects do not

obligatorily approach the values that supposedly dominate a nation’s political culture.

Furthermore, there is a scarcity of empirical evidence that citizens in different societies have

different preferences in areas of public policy. For example, Almond and Verba (quoted by

Steinmo, 1993, p.5) affirm that Americans express more hostility than Europeans to the

government. Although, Coughlin (Coughlin, R. “Ideology, public opinion, welfare policy:

attitudes towards taxing and spending in industrial societies”, Berkeley: Institute of

International Studies, 1980 quoted by Steinmo, 1993, p.5) and Lewis (Lewis, A. “The

psychology of taxation”. Oxford: Martin Robertson, 1982 quoted by Steinmo, 1993, p.5)

showed that this attitude does not mean necessarily differences toward policy choices. This

demonstrates that values do not explain correctly general ideas to specific policies.

Anyway, the state is not a neutral judge that just divides the resources

impartially, because it has to be analyzed the way groups reach power and the people that are

responsible for public policy effects and the role of the state in shaping and mobilizing

political ideas (Steinmo, 1993, p.6).

3.3 Tax policy

To be succeeded in performing their wide gamut of public policies

comprehended in their functions, governments need resources, which are levied in way of

taxes. The special significance of the power of taxation is that governmental authority is

inconceivable without public funds (Steimo, 1993, p.1; Vogel, W. quoted by Lehner, M.,

1999). Thus, the power of taxation is not an end in itself, but it ensures the sovereignty of the

state, understood, domestically, as the supreme authority and, abroad, as independence under

international law (Lehner, M.; p.88).

It means that public officials are under pressure to think out taxes that

produce higher amounts of revenue but that have to be acceptable by the components of

society who pay those taxes. This causes a trend toward broad-based taxes4, i.e., taxes that

4 Steinmo (1999, p.18) argues that, taxes with very high rates tend to exhibit strong incentives to reduce activity or behavior that evokes the tax. From a purely administrative or technical point of view, a simple head tax would be the best and broadest-based. For example, if U.S. government decided to tax each inhabitant of the country in $5,000.00 a year, it would generate a slightly lower revenue ($1.25 trillion dollar) that the one generate by all other taxes in 1990. Although, this kind of tax is not conceivable, because would be considered unfair by everyone. For example, in UK, as Margaret Thatcher tried to introduce this head tax, it caused a substantial riot that almost had, as a consequence, her left from the government.

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everyone pays and whose revenues increase gradually as the whole economy grows, like the

indirect taxes5 (Steinmo, 1993, p.17).

Although, this argument - used to justify the amount of taxes on the

rich in developed countries - has to be contextualized in the case of developing countries,

where indirect taxes really burden lower income people. In Brazil, for example, indirect taxes

are much more used than direct ones as means of levying. For example, the average rate in

1995 was 25% for food, 17.5% for clothing and 27.2% for shoes. It can be pointed as a cause

of unequity, as indirect taxes burden more low-income classes. Siqueira et. al argue that in

Brazil, indirect taxes show a great dispersion in a diversity of goods and services, but it is

considered economically inappropriate (Siqueira et. al, 2000, p.29-30). As the most of

population is formed by low income people, they pay, proportionally, much more taxes than

upper income classes, i.e., while the lower income class spend up to 26.5% of its income in

taxes, upper income classes spend around 7.34% (Fenae, 2001).

In OECD countries, personal income taxes are the largest source of

revenues, because, as income increases, income tax revenue does so even faster6. This

phenomenon, called bracket creep, assures that, once income tax rates are set, revenues will

increase faster than the GNP. The introduction of indexing on brackets in the 1970s and 1980s

- considered one of the most important shifts in tax policy environment - was designed to

eliminate or minimize the bracket creep and the automatic revenue expansion generated by it

(Steinmo, 1993, p.19-212).

The use of direct taxation is an important means for income and

wealth distribution. However, if implemented – and sometimes it is - in levels of high burden,

can be a risky tool for the economy, because may: (1) lead to skillful evasions; (2) decrease

risk taking because the growth of capital depends on the strength of individual saving, and

large proportion of this growth is dependent on the rich out of their superfluity (Keynes, J.M.

“The general theory of employment”, London, Mcmillan, 1936, p. 372 quoted by Steinmo,

1993 p.17).

Those facts show that taxation is a fundamental policy in the modern

states because necessity of money, besides raising questions of how to get it and whom to take

5 Mainly at the end of the twentieth century, trying to reach the equilibrium between demand revenue from the State and the desire of not obstructing economic growth within the capitalist system, policymakers had to count on taxes that could either be hidden or that could grow on their own. 6 In 1989, personal income taxes accounted for around 29.4 percent of total revenues in the OECD. Social security taxes contributed an average of 23.2 percent and general consumption contributed with 17.2 percent.

13

it from, turns clear that taxation and expenditure allocation cannot be separated because a

modern tax system is a complex mix of both revenues and payments.

Tax policy, besides being related to redistribution, has a role much

more complex than just redistributing wealth and generating revenues, involving competing

goals, ambitions and considerations, namely: raising revenue, redistributing income,

encouraging savings, stimulating growth, penalizing consumption, directing investment, and

rewarding certain values while penalizing others. Those are just some of hundreds goals that

any modern government tries to promote with its tax system, demonstrating that taxation can

be considered the major instrument by which governments intend to influence the private

sector through giving incentives or creating entanglements (Steinmo, 1993, p.3).

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4. TAX REFORM: SOME EXPERIENCES

4.1 The 1986 tax reform in USA

The Tax Reform Act of 1986 in United States took away tax benefits

from some powerful political interests. It just happened because the fragmentation of

authority in American politics made it difficult for political elites to impute costs on

influential elements of society (Steinmo, 1993, p.164-166).

The business community was against the new tax bill, because it

would finance large individual income tax cuts by raising corporate taxes by approximately

$120 billion dollars in the next five years. Despite it can seem controversial, this bill was

fulfilled to attend concerns related with international competitiveness. Anyway, large sections

of American business - which included high-tech industries, service industries and certain

multinationals - really supported the plan. Other sectors, like real state, retail trade,

construction and rust-belt industries were against the reform. Those divergences in tax

policies occurred in a scenario of internationalization of American economy (Steinmo, 1993,

p.166).

Traditionally, tax incentives had the tendency of lockinf business,

what was not interesting for emerging mobile corporate, whose interests had become much

more included in international economy. In addition to trade, which contributed to expansion

of the share of the American economy in the 1980s, the confidence of American firms on

foreign products and production had as a corollary the fact that tax incentives found in U.S.

tax code were being less attractive (Steinmo, 1993, p.166).

By the mid-1980s, American companies had much more varying

interests, and companies that produced finished manufactured goods for domestic market

were much more worried with international market than before7. The proposal of executive

power with the Tax Reform Act was to simplify the tax sys tem, but the reality was the

opposite, because the 1986 act took an incredibly complex tax code and transformed it in an

even more complicated code. It happened because, intending to warrant the equity,

congressmen insisted on a number of accounting changes and requirements for “minimum

taxes” that raised the complexity of the code. Moreover, to get the act be passed through

Congress, it was necessary that reformers give away a large number of tax breaks to many

7 As an example, import content of supplies of finished manufactures represented 9 percent in 1971 and 24 percent in 1985. In this same period, those figures grew in some other countries, like U.K. (from 12% to 29%), Sweden (from 37% to 45%), Germany (from 16% to 26%) and Japan (from 4% to 6%) (OECD. “Structural adjustment and economic performance”. Paris: OECD, 1987 quoted by Steinmo, 1999, p.166).

15

political interests. Despite an array of loopholes were cut in this tax act, other ones were

introduced or expanded. The cuts in personal income tax were costly, and were largely

financed by raising taxes of corporate sector (Steinmo, 1993, p.167-169).

It is interesting how the tax reform to be implemented in Brazil from

2003 on keeps the same similarities with the American tax reform made in 1986, namely: (1)

the need to conform economy to international competitiveness; (2) existence of dispute

between sectors (USA) or levels of government among them and those with private sector

(Brazil); (3) the reach for a simplification of the system.

4.2 Tax reform in the UK during Thatcher’s period

In United Kingdom, three successive electoral victories led by

Margaret Thatcher gave to the Tories the possibility of imposing a lot of tax reforms that

culminated in the following: (a) personal income tax was cut from top rates of 98 percent to

40 percent, bottom rates decreased from 33 percent to 25 percent and the “reduced rate” paid

by the poor was eliminated; (b) tax expenditures were reduced and corporate tax were cut

from 53 to 35 percent; (c) capital transfer tax was reformed by both cutting rates and opening

new loopholes; (d) consumption taxes were reformed by hiking excise taxes, enlarging the

VAT base and increasing the VAT rate from a split 8-12.5 percent to a flat 15 percent.

Besides all those changes, Thatcher abolished local property taxes rates and substituted them

with an extremely unpopular and regressive head tax called a Community Charge (Steinmo,

1993, p.170).

All of those actions implemented by Thatcher were due to the

historical context because, compared to other developed countries, United Kingdom was not

in a very favorable economic condition at the end 1970s. Of course that Britain had been

undergoing from long-term decline, but in the 1970s Britain’s economic and political

problems were deeper: economic growth stagnated, real incomes decreased, union

disagreements with government caused first a Conservative then a Labour government.

Furthermore, public spending rose abruptly causing budget deficits. These facts resulted in

crisis of confidence on the part of both British and foreign investors8 (Steinmo, 1993, p.170-

171). In short, when Thatcher’s conservative government came into office, it was desperately

8 Net fixed capital investment as a percent of GNP decreased by more than one-third between 1969-1971 and 1978-1980. While direct investment in Britain rose from $631 per year in 1967-69 to $1,353 in 1976, the outflow of direct investment in the same period went from $1,027 to $3,379 (Pollard, S. “The development of the British economy”. Baltimore: Edward Arnold, 1983 quoted by Steinmo, 1999, p.171).

16

looking for new solutions for Britain’s sorrows (Krieger, J. “Reagan, Thatcher and the politics

of decline”. Oxford: Polity Press, 1986 quoted by Steinmo, 1993, p.171).

In sum, the Tories focused on distributing tax burden within society,

by reducing personal income tax rates (mainly for the rich), rising consumption taxes, and

liberalizing capital taxation. Although the tax burden has been largely shifted downward, the

Tories tried to do more than just redistributing the tax burden, attempting, in the same

manner, to make their tax system more economically efficient and, factor that was less

successful, use tax limitation to restrain government spending (Steinmo, 1993, p.173).

Margaret Thatcher’s government undertook a corporate profits tax

reform in 1984, resulting in a growth in the overall tax burden borne by British corporations.

The previous tax system encouraged British companies to invest locally in plant and

equipment, and the system decisively favored the manufacturing industry over financial

institutions. These distortions in the market, according to the government, undermined

Britain’s international competitiveness because British companies had invested in assets

yielding lower rate of return than the investments made by their competitors. This reform had

the following aspects: corporate taxes were reduced from 52 percent to 35 percent for large

companies and from 42 percent to 25 percent for smaller companies; major investment

incentives and stock relief deduction were removed or reduced; corporate capital gains were

indexed; National Insurance surcharge was abolished; stamp duties on stock and bond

transfers were halved; and the investment income surcharge was eliminated (Steinmo, 1993,

p.173-175).

The objective of the government was to reduce tax paid by companies.

However, what happened was the opposite, and it occurred because this reform was drawn up

by a small group of Treasury, and no one outside the government knew what was to come

(Steinmo, 1993, p.176).

The most infamous tax reform introduced during the Thatcher era was

the Poll Tax, which was a community charge. The plan for this kind of tax was to extinguish

property taxes for both businesses and individuals and substitute them with a flat head tax on

all adults over the age of eighteen. There was not a belief in government’s affirmation that the

community charge would be less regressive than the rate system it substituted because the

actual distribution of new tax burdens was not explained in the government’s proposal.

Population believed that the tax would set a much greater burden on the poor and diminishing

the tax burden of the rich and redistribute the tax burden among all the communities. Despite

the fact of this new tax be considered unpopular - not only by government’s opposition, but

17

by its allied - Thatcher’s government tried to impose this new rule. It was considered as a

huge political mistake, an example of the imposing spirit of the Thatcher’s government and a

huge embarrassment to Tory politicians, bringing serious political damages to the party as a

whole, causing the fall of Margaret Thatcher (Steinmo, 1993, p.177-178).

Some politicians, from many countries including Brazil, propose the

unique flat tax as the solution of many problems concerning the burden and the complexity of

their countries’ tax system as a theoretical exit. Although, as seen in UK, the political cost of

that is immense, because, if a priori this kind of tax seems to be fairer, when implemented it

shows being unfair because treats equally the ones that are not in similar economic position,

resulting in an even higher unequity of the system.

Economic situation in Brazil has some similarities with those

presented in UK before tax reform implemented by Thathcer: economic growth stagnated,

real income decreased and public spending with deficit. However, the British model is ponted

as unsuccessful because resulted in a more regressive system.

4.3 Swedish tax reform during the 1980’s

Sweden experimented tax reforms by the end of the 1980s,

simplifying personal and corporate income taxes, removing or scaling back many tax

incentives, and increasing both consumption and social security taxes, harmonizing with the

worldwide tax reform movement of giving more freedom to capital and distributing tax

burden downward. As constitutional reforms of the decade before had altered the strategic

context of some major political actors, with many institutions and patterns of the fifties and

the sixties being kept, resulting in a reform representing a mix of old-fashioned

compromising, plodding, technocratic reformism and the new confrontational and frequently

unstable high politics of a new era (Steinmo, 1993, p.179).

Although the institutions of each country that lead tax reforms create

their outcomes, the tax policy agenda has developed beyond the limits of the nation-state. But

it is important to know if the new institutions can or will be created to deal with this new

scenario (Steinmo, 1993, p.192).

Brazil keeps some similarities with Sweden concerning the necessity

of a tax reform: necessity to harmonize its system with the movement happening worldwide

(as already pointed in the part treating on “The 1986 tax reform in the USA”); more freedom

to capital (fewer burdens to productive sector so that economy can grow in Brazil). Contrary

18

to what happened in Sweden, which distributed tax downward, Brazil has to distribute taxes

upward, becoming a more regressive system.

4.4 Tax reforms in Latin America during the 1980s and the 1990s

Many Latin American countries that had undertaken tax reform in the

1980s experienced an increase in their tax-GDP ratios in the range of 2-4% of GDP, within

about five years of undertaking reform. Some countries could have had revenue generation as

a specific objective of reform, but in others, the objective might not necessarily have been

revenue enhancement. The revenue increasing could be attributed, then, to the likelihood that

tax reform was carried out in an overall reform environment in the economy, with

improvements taking place at the same time in many sectors, including the fiscal sector. This

could have generated the higher incomes necessary to yield revenues in proportions higher

than income growth (Shome, 1999, p.116).

Around the mid-1990s, in Latin America, there were no clear

examples of fundamental or continuing reforms, and the late 1990s was a period of

introduction of awkward or inefficient taxes and continuing tax-base erosion, rather than one

of fundamental improvement. It is important for some countries to address tax reform as a

renewed challenge and embrace the necessary systemic changes for other countries to follow

(Shome, 1999, p.116).

In sum, following the example of Latin America – which Brazil is part

– during the 1980s and the 1990s, it is advisable that Brazil looks for not only increasing its

revenue, but get it with an overall reform environment in economy, taking care of introducing

efficient taxes.

19

5. BRAZILIAN TAX SYSTEM AND THE TAX REFORM

5.1 Current Brazilian tax system

The competence to collect taxes in Brazil is determined by 1988’s

Constitution, and is divided as following:

Federal government:

? Import tax

? Export tax

? Industrialized products tax (IPI)

? Income tax (on individuals and corporations)

? Financial operations tax (IOF)

? Rural property tax

? Tax on wealth (not regulated yet)

? Extraordinary taxes (in case of war, calamities, etc)

? Social contributions (Cofins, PIS/Pasep, CSLL, CPMF, on

payroll and self-employment earnings)

? Contributions for intervention in the economic order and in the

interest of professional or economic categories

? Compulsory loans under special conditions

States and Federal District:

? Consumption tax (ICMS)

? Death and donation tax (ITCMD)

? Automotive vehicles tax (IPVA)

Municipalities and Federal District:

? Real estate property tax (IPTU)

? Services tax (ISS)

? Real estate transfer tax on lifetime (ITBI)

Contributions, collected by federal government, can be collected by

states and municipalities in two situations: (1) for payment of social security of their servants

to finance their own social security and social assistance benefit plans; (2) for evaluation of

private real estate due to public constructions. The fees can be established by all levels of

20

government, either for their regulatory activities or for the public services they of fer which

use can be effective or potential.

Direct taxes account for only 30 percent of all tax revenues, while

indirect taxes (such as value-added taxes) account for the remaining 70 percent (Kee, 2003,

p.15), what demonstrates that the Brazilian system is extremely regressive.

Besides, there are two categories of taxes: own-source, which are

collected and spent by the same level of government, and shared, which are collected by one

level and distributed to lower levels. For example, the major sources of revenue for the federal

government are the personal income tax and the industrialized income tax. Although, the

federal government keeps 56 percent of the revenue from those two taxes and distributes 21.5

percent to the states and 22.5 percent to municipalities, with part of the distribution providing

greater funding to poorer states and municipalities.

The main source of own-source revenue for states is the tax on

circulation of goods and services, which is a value-added tax at the state level, and that is

retained in 75 percent by the states and shared 25 percent to municipalities.

5.1.1 Discussion on the five great revenue generators

Although the existence of different classifications for taxes based in

diverse criteria, Steinmo (1993) argues that there are two types of taxes: traditional and new.

Traditional taxes are the ones on property, customs and tariffs, and excises on particular

goods and services. New taxes - introduced gradually in, approximately, the last one hundred

years - are the ones on personal income, corporate profits, general consumption and social

security.

Nowadays, modern states rely on broadly similar types of taxes, and

those had to be changed, adapted and reformed according to their particularities because, as

each country has it own characteristics, the degree of their dependence on each tax varies

extremely. According to statistics from the period comprehending 1965-1990, in all OECD

countries, new taxes correspond over 65% of revenues, since, in many of them, this

percentage reaches an amount over 80% (Australia, Belgium, Denmark, Finland, New

Zealand, Norway, Germany, Italy, Japan, Netherlands, Sweden, Switzerland, USA). Joining

the new taxes with property tax, the similarities become even greater because, until 1999, with

79.5% of total government revenues in OECD countries came from those taxes (Steinmo,

1993, p.19). In Brazil, federal government collected, from those five taxes almost 94% of its

21

revenues in 2002 (http://www.receita.fazenda.gov.br/Historico/Arrecadacao/Historico85a

2001.htm).

Then, due to the importance of those five taxes – namely on property,

personal income, capital, consumption and social security9 – it is discussed below some of the

specific characteristics of each one.

A - Social security taxes

Democratic institutions that made possible the expansion of taxes

brought government into the management of both the society and economy, and governments

became responsible for the public welfare. Being small at first, these insurance taxes and

social security programs became main elements of modern welfare states. Nowadays, they are

deeply fixed in many societies and cultures, and no serious and worthy group would propose

its extinguishment, because efficient taxes gave governments the possibility, through

expansion or constriction of them, to regulate and manage economy at both macro and micro

levels.

Social security taxes have been considered as popular as income taxes

because even though they are not benefited by bracket creep, they are partially concealed

from taxpayers, being paid, in many countries, in part or in whole for the employee by their

employer, and few taxpayers know that their employers are paying part of their wages directly

to the government. Besides, citizens tend to view social security taxes as fairer than other kind

of taxes because they are often considered as insurance payments, and taxpayers often

believe, wrongly, that their contributions are put into an insurance fund from which they will

draw benefits later in life (Steinmo, 1993, p.19).

B - Property taxes

Despite the fact that equity is probably one of the most important

considerations that go into the making of tax policy, tax policymakers generally conf ront

powerful incentives to increase taxes that grow automatically. Property taxes tend to decrease

as a percentage of revenues because raising property taxes requires direct intervention of

authorities, and many politicians do not want to take this risk (Steinmo, 1993, p.19). It causes

regressive taxes, as the ones met in Brazil, where rates are much higher over urban estate,

9 Conceptually, in Brazil, social contribution is a genus, which presents the following species: COFINS, PIS/Pasep, CLSS, CPMF and social security contribution. The latter will be treated here, to keep uniformity with other countries, as “social security tax”, while all the other contributions are being considered in the part reserved for “capital taxes” (letter “D” below).

22

which is paid by lower-income and the middle class, than over rural estate, which

comprehends immense areas, that sometimes are not productive.

At the federal level in Brazil, the Finance Ministry recognizes,

referring to the Rural Territorial Tax (ITR), that property tax is not important in terms of

levying (http://www.fazenda.gov.br). It happens because, although the rising of the brackets,

up to 20% for large non-productive estates, the quantity of exemptions is so huge that, in

reality, this tax represents around 0.1% of federal collection.

C - Income Tax

This kind of tax is the major revenue generator in some countries, as

Australia, Canada, Denmark and USA it corresponds to, respectively, around 45%, 40%, 50%

and 30% of the total collected. France, by the other side, has around 10% of its revenues

coming from income tax. In Brazil, around 20% of what was collected by federal government

in 2002 came from income tax (http//:www.receita.fazenda.gov.br).

However, the structure and incidence of any particular tax in one

country can be quite different from the structure and incidence of the same type of tax in

another country. The result of this is that, even when two countries have revenues from a tax

in similar amounts, the incidence of that tax can be widely different. This means that a

particular type of tax used by a country or how much this revenue is generated by it will not

explain clearly about who pays and who avoids or evades the tax (Steinmo, 1993 p.14-16). It

can be observed in Latin America, where some aspects concerning taxation are quite similar.

For example, the initial exemption level in terms of per capita GDP both in the rest of Latin

America and in Brazil did not follow the raising of the lowest rate during the 1990s, leading a

greater number of potential taxpayers to become actual taxpayers. Although, while in Brazil

top personal income tax rate decreased from 60% to 25%, and lowest rate increased from zero

to 15% at the end of the 1990s, in the rest of Latin America top personal income tax rates

decreased from 50% in the 1980s to around 34%, and the lowest rate declined from an

average rate of 7% up to 8.7% at the end of the 1990s (Shome, 1999, p.106-107). It

demonstrates that, although both in Brazil and in the rest of Latin America the top rate has

begun to be applied at a lower multiple of per-capita GDP, Brazilian income tax became more

regressive than other countries of the same region.

23

D - Capital taxes

While in Brazil top rate of corporate taxes changed from 50% to 15%,

in the rest of Latin America rates fell from 43.3% in the mid 1980s to 27.6% at the end of the

1990s (Shome, 1999, p.107), demonstrating, again, Brazilian system becoming more

regressive than other countries of the same region.

The decline of those rates moved the top personal tax rate

considerably above income tax rate average, which includes corporations. These trends

happened especially in the context of globalization and the difficulty in tax factors of

production that are mobile across international boundaries (Shome, 1999, p.109). In many

countries, the trend towards easing the tax burden on capital is revealed through changing

structures in other forms of taxation of capital as well. For example, capital gains tend to be

either taxed at normal income tax rates, or are exempt, or taxed at lower than normal rates.

Similarly, withholding tax rates on remittances of dividends, interest, and royalties from

capital have also continued to decline. In Latin America, the average tax on capital gains was

27% in the mid 1980s, and went to 22% at the end of the 1990s. In Brazil the changes went

from 25% to 15%. This lower taxation of capital is visible in the form fewer countries in Latin

America applying capital taxes on net worth or assets in the 1990s than in the 1980s, and few

are considering its introduction. The overall prospects for the minimum corporate tax based

on gross asset seem to be bleak for the foreseeable future (Shome, 1999, p. 109).

Brazil increased concentration of federal levying on contributions. It

happened mainly due to its easiness conferred to contributions in Brazilian legislation, as

contributions are simplier to levy, rates can be changed with a provisional measure, take

ninety days to be vigorating, and are not divided with states and municipalities. Although,

they cause distortions in economic activities due to the cascade incidence, with perverse

effects on the economy, compromising the employment level and efforts to increase exports

(Shome, 1999, p.107-113; http://www.unafisco.org.br/estudos_tecnicos/estudo_arrecadacao

_imposto.htm).

The growth of levying of contributions in Brazil can even weaken the

federative pact because the share of states and municipalities, compared to the amount levied

by the federal government, comes declining spteeply. In 1995, around 21.8% of federal

levying with taxes and contributions pertained to states and municipalities, in 2001 this

percentage decrease significantly to 18.3 %. In case of being kept the share of 1995, states and

municipalities would receive in 2001 the amount of R$ 41.43 billions, but received only R$

34,82 billions. That is, federal government did not share R$ 6.60 billions with states and

24

municipalities in 2001, as result of its policy of concentration of federal levying on

contributions over other taxes (http://www.unafisco.org.br).

In Brazil two contributions - PIS (Social Integration Program) and

Cofins (Contribution for the Financing of Social Security) – are considered taxes that

simultaneous ly burden the productive sector and penalize national production vis-à-vis

imports. The provisional measure 135/2003 enacted in Brazil tried to correct part of the

distortionary effect of the COFINS, changing it rate from a 3 percent cumulative tax to 7.6

percent rate non-cumulative tax. Although, it is not clear the real effect it will have on the

economy.

E - Consumption Taxes

All consumption taxes taken together went down in all seventeen

OECD countries between the period comprehending 1960’s and the beginning of the 1990’s.

However, comparing general consumption taxes like VATs, which grows with the economy

and are hidden from the consumer, and taxes on specific goods and services, the first one

increased from 12 percent to 17 percent, while the second decreased from 24 percent to less

than 12 percent (Steimo, 1993, p.196-201).

Shome (1999, p.103) affirms that some countries experienced a period

of perceptible slowdown in the optimal design of taxes with the introduction of distortionary

levies such as tax on financial transactions or the inability to design or collect appropriate

property taxes. Besides, while the value added tax (VAT) had played a leading role in

improving efficiency and revenue productivity of the tax system, its structure became

complex, exhibiting signs of aging. According to the author, it happened due to an

overreliance on consumption taxes and a neglect of the potential taxable capacity of incomes.

This low reliance on the income taxes is caused by structural factors such as the inability to

reduce significantly exemptions and deductions even as tax rates are scaled back, changes in

the composition of the labor force and the increasing difficulty in taxing internationally

mobile capital. Although, oversimplified administrative practices – with inclination for

targeting mainly large taxpayers with the consequent slowness in expanding the overall

universe of taxpayers, simplified contribution structures for small taxpayers, and emphasis on

self-assessment and financial control (opposed to physical), can exacerbate the problem.

United States did not introduce broad-based consumption taxes,

although has a federal income tax. Thus, the main difference between the American and

European tax systems is the fact that United States does not have a national consumption tax,

25

although its amount is higher, i.e., 12.7 percent versus 4.9 percent of the European OECD

countries. Steinmo (1993) argues that national consumption taxes have been proposed many

times in the United States, but each time those proposals were launched, they are defeated in

committees, and it happens because of the lost of power of collecting taxes makes the states

less autonomous, and autonomy is a extremely valorized aspect in the American federalism

(Steimo, 1993, p.196-201).

Concerning this aspect, as Brazil - except for a federal VAT (IPI –

industrialized product tax) - has the same characteristics showed by the American model, with

VATs collected both at the state level and at the local level. Shome (1999, p.103) affirms that

Brazil has demonstrated a capacity for innovation and experimentation in tax concepts with

the decentralization of value added tax. Some Brazilian politicians, mainly those ones attained

to the federal level and interested in managing this elevated amount of revenue pertained to

the states, usually defend a unique federal value added tax, arguing that the centralization is a

worldwide model. Although, the American example of keeping autonomy of the states as a

way of maintaining the federative equilibrium can be considered as a much more rational

model10. Fiscal decentralization is a part of a reform agenda of many nations to strengthen

their regional and local governments, because (1) it is impossible for central governments to

meet all the competing needs for their various constituencies, and they are attempting to build

local capacity by delegating responsibilities downward to regional governments; (2) central

governments are looking to local and regional governments to assist them on national

economic development strategies; and (3) regional and local leaders are demanding more

autonomy and want the taxation powers that go along with their expenditure responsibility

(Kee, 2003, p.3-4). Besides, from the common public finance tenet “finance should follow

function”, leads to the assumption that, if certain expenditure roles are assigned to a leve l of

government, each governmental level must have the resources to meet those responsibilities,

and taxes are the main origin of own source revenues for governments of all levels (Kee,

2003, p.6).

In most countries of Latin America, the VAT has gone up in recent

years. It can be considered that, on the whole, the objective of tax policy has been to continue

relying more heavily on the VAT than on the income taxes. Taxes on the domestic

10 Countries with bigger territories, like United States and Brazil, are federal states and prefer decentralized consumption tax, which it is better to manage regionally than from the federal government. Smaller countries, which generally are unitary states, have centralized VAT because they do not need incur in great efforts to manage it.

26

consumption of goods and services comprised the most important component of tax revenue

in Latin American countries as many of them introduced the VAT that replaced cascading

turnover taxes and most simplified prevailing complex income tax structures by reducing

rates and raising personal exemption levels (Shome, 1999, p.112).

This same tendency can be observed in Brazil, which continues to

collect much of its revenues from VATs, in a practice that contradicts the general virtue of

diversification in revenue sources as observed in developed countries (Shome, 1999, p.19-

21,112). On average, during the 1990s, revenue from the VAT and similar taxes, in terms of

GDP, has been significantly higher than either personal income tax or corporate income tax

and, when combined, revenue from taxation of goods and services has been significantly

higher than income tax revenue (Shome, 1999, p.112).

Although, it is necessary to be cautios with the share of VAT among

other taxes, because if, initially, a focus on it represented an improvement in overall

efficiency. Although, currently, the underutilization of the income tax could reflect a

combination of factors, including structural deficiencies such as a preponderance of

exemptions, deductions and allowances that erode the tax base, as well as an over-

simplification on administrative grounds to attend the extreme complexity (Shome, 1999,

p.112).

Some positive alterations have been introduced in Brazilian VAT by

complementary legislation, like the exemption on exports, but some problems related to the

complexity of the tax still remain, which will be treated on next session, causing an elevation

of costs for taxpayers with the management of bureaucratic subjects. Those problems are

mainly related to: (1) different brackets linked to the type of product or to the state of origin

or destination; (2) differentiated brackets covering internal and interstate operations, making it

one of the main reasons for high evasion; (3) combination of complex institutes, such as a

reduction of the basis for calculation (sometimes “of x%”, other times “to x%”), presumed

credit, postponements, and partial or total exemption; (4) the significant changes from one

state to the other engenders horizontal conflicts, as fiscal wars, or vertical ones, as exports

exemption, hindering harmonization in integration processes such as Mercosul and

globalization (http://www. fazenda.gov.br /ingles/ ajuste/taxrefor.html).

This is especially so since it is clear that, in some countries, the VAT

is beginning to exhibit signs of increased complexity in structure in the form of an increase in

the number of rates and erosion of the base as well as a deterioration in administration that is

often the counterface of a complex structure resulting in difficulty or manipulation in

27

interpreting the tax code. To add to this, the personal income tax may be covering less and

less potential taxpayers in relation to the growing incomes being experienced by economic

agents in many of these countries and, where not applied at all, an important tax instrument is

being ignored.

5.2 Some aspects that should be considered on Brazilian tax reform process

In a tax reform, there is a diversity of facts that have to be considered

to reach a succeeded process. The current paper discusses two main aspects concernin

Brazilian tax reform: problems of the current structure and the importance of tax

administration in the process.

5.2.1 Problems of the current structure

Currently, the main problems that Brazilian tax system exhibits

concerning the relationship among states or among those and federal government are

(http://www.unafisco.org.br ; http://gateway.proquest.com/openurl):

- difficulty in exercising social control since an unequivocal association is not

established among the various levels of the government and their respective obligations. It

hampers the political overseeing of public accountability by the citizen, making the social

control by the state vulnerable;

- financial unfeasibility affecting a large number of states, as a result of problems of

flows (excessive payroll obligations) and stocks (excessive debts as a proportion of annual

income), including some leading states;

- limited initiative and state action in its power to levy taxes (competence shared with

the Senate and with the Confaz – National Council for Financial Policy).

Problems in regulating the formation and distribution of participatory

funds, foremost among them:

- a contribution that is incident only upon two of the federal taxes (it should be said

that if it affected all those taxes, the proportional federal contribution would have to be

correspondingly reduced) causes restrictions on the handling of the federal tax policy,

generates mistrust and resistance on the part of the states and municipalities, and makes it

necessary to resort to instruments such as the CSLL (Social Contribution on the Net Profit);

- there is a high level of linkage to income, involving the federal government more

extensively and leading those responsible for the administration of federal public resources,

including the National Congress (it is remarkable how there is a generalized, but false idea

28

that only the executive branch is affected by those linkages) have a limited ability to allocate

such resources and that they find themselves unable to introduce modifications that respond to

inevitable temporary changes in the priorities in need of attention;

- discretionary treatment of national products: besides the duplicate contributions,

already mentioned, the CPMF (Temporary Contribution on Financial Operations), as well as

differences in the incidence of the ICMS on imported products, contribute to exacerbate the

discretionary treatment of national products;

Problems related to tax burden and tax management:

- costly obligations related to employee benefits, although there is intense debate of

this issue (indirect salary versus obligations);

- the levying of taxes on bank spreads introduces pressures for the reduction of interest

rates;

- the ICMS tax have 27 different state regulations actually in force;

- the states would not be allowed to grant any tax incentive on their own - this is an

attempt to extinguish the current tax disputes between states (the so-called tax war);

- the ICMS rates have about 44 different existing rates;

- regarding interstate transactions, the ICMS tax would be collected, except for electric

energy, petroleum and its derivatives, in the state of origin of the merchandise, goods or

services;

- the CPMF contribution would be converted into a permanent social contribution at a

maximum rate of 0.38% and a minimum rate of 0.08%;

- the tax on wealth is not regulated yet;

- real-estate transfer tax lifetime and death and donation are not progressive.

5.2.2. Role of tax administration on a tax reform process

A concern related to any country located in Latin America, Asia,

Africa or Europe is that it has to be considered, together with tax reform, how tax structure is

effectively administered, i.e., how closely administration system resembles legal structure.

The power a state has to tax is part of its power of having resources

and actually comprehends legislative power in matters of taxation, entitlement to tax revenue,

judicial authority in tax matters and administrative power in tax matters. Tax administration is

a so important factor that without proper tax administration practices, tax policy could not be

achieved (Shome, 1999, p.118; Vogel, W. quoted by Lehner, M., 1999).

29

When the conception of a tax structure is enacted into law, the tax

administrator assumes the control of the implementation of what is actually applied, and

considers what part is modified in order to simplify the achievement of revenue goals

according to the budget, and what part is ignored because is considered impractical for field

application. In that sense, tax administration is tax policy in every country – developed or

developing - because, in any setting, it is the administration of a tax structure that is ultimately

faced and perceived by the taxpayer. Thus, if there is little difference between tax policy and

tax administration, it is extremely probable that the taxpayer´s burden reflects the tax structure

as clearly present in the law. However, if this difference increases, the taxpayer´s burden

begins to increasingly reflect the way the tax is administered and away from the framework of

the tax structure (Shome, 1999, p. 104, 117-118).

It seems that there are greater responsibility and onus on tax

administrators regarding that, at a certain extent, they can even attempt to implement the tax

structure sacrificing the strict compliance with the law for the sake of simplification. For

example, tax administration can work strongly with large taxpayers, giving low priority to

potential taxpayers, such as nonfilers in sectors like services, and operating without a

perceptible strategy for expanding the universe of taxpayers to reduce the population of

nonfilers.

Targeting large taxpayers can be an efficient strategy in the short run,

but, in the long run, it can be an insufficient approach because can estimulate evasion of small

and even medium taxpayers. Another example is the use of withholding schemes, which

objective is to facilitate tax administration, but that, effectively, negates or modifies the

intended base and rate structure under a global income tax. In this way, tax administration

often summarizes to a matter of compromise between appropriate structure and effective

administration, and the solution is to arrive at an optimal combination of the two (Shome,

1999, p.117).

This could put the tax administrator in a position of advantage over

the tax policy designer, adding a degree of responsibility in assuring that its application

should resemble, at the maximum it could, the tax structure as represented in the tax code.

However, particularly in Latin American countries, the tax code tends to become full of

executive orders for administrative convenience, but day-to-day interpretation and application

sometimes are from the original design and intent behind the law (Shome, 1999, p.118).

A tax reform process usually is carried out by a committee of experts,

usually consisted of tax policy technicians, supported by tax lawyers, influenced by lobbyists

30

representing various sectors of economic activity, but not including experienced tax

administrators. The latter gain control at a subsequent stage, after the tax reform is passed,

having the influence over how new tax configuration is enforced. Tax policy experts tend to

distance themselves from this next stage, with no or scarce continuing links with the tax

administration (Shome, 1999, p.118).

In a tax structure appropriately designed, tax administrators simplify

practices for administrative convenience only under extreme occasions. It means that, further

simplification could – besides affecting the efficiency and equity of the tax structure – lead to

a lower levying than planned, with a consequent reduction of governmental expenditure. It

shows that, without proper tax administration practices, tax policy targets can even not be

reached (Shome, 1999, p. 118).

Sometimes, the separation of functions being strictly of tax policy

maker or tax administrator can, inadequately, serve as purpose of providing their comfort, as

both do not have to assume entirely the responsibility for the unsuccessful delivery of a

system of taxation. The policy expert can always blame the administrator for his inability to

implement ideas – tending to undervalue the task of mere administration – and the tax

administrator can, similarly, blame the policy specialist for designing an impractical set of tax

laws, tending to put aside the background tenets for a meaningful set of laws based on

economic efficiency, equity and stabilization, being extremely influenced by revenue targets

(Shome, 1999, p. 118-119).

The main strategies currently used by tax administration to maximize

efficiency are focusing in large tax payers and using simplyfing schemes. Those two items are

treated below.

5.2.2.1 Focus on larges taxpayers: advantages and disadvantages

The structure of a tax policy should not distinguish sources of income,

if they are from industry or services, or from organized or unorganized sector. But it is a

difficult task, because services are more difficult to control than industry, and unorganized

sector often includes small taxpayers that are not easy to identify. Then, the changes in focus

should emphasize the need for a clear strategy for enlarging contributors base, including an

increasing number of potential taxpayers from the growing sectors (Shome, 1999, p. 119).

Though tax administrator agrees that all taxpayers need to be

monitored to generate revenue, it is usual that tax administrator tends to create strategies to

control large taxpayers than trying to develop strategies to control the overall universe of

31

taxpayers. A strategy commonly used is the creation of new criteria that expands the number

of large taxpayers.

An impressive indicator is the structure of large taxpayer units in

contrast to the lack of allocation of comparable resources, or the assignment of specific

responsibility for revenue generation for the taxpayer population as a whole. This is not to

minimize the role of large taxpayer units especially in the short run but, rather, to point

towards the need for broadening the overall taxpayer base in the medium to long run (Shome,

1999, p.120).

Although large taxpayer units are made of short term measure with the

assertion that, in the medium term, all potential taxpayers would be targeted, an examination

of a country´s taxpayer profile, even over decades, is likely to demonstrate that the large

taxpayer unit has effectively transcended from short-term to long-term policy, and that the

share of small taxpayers in the taxpayer list has declined or remained static. A few countries

have set up departments to reduce the number of non-filers, but such cases are hard to identify

in Latin America (Shome, 1999, p.120).

The resources allocated to large taxpayers under each activity of

registration, collection, assessment and audit would show that a great number of that goes to

control large taxpayers, because of the much greater share of revenue collected from them

(Shome, 1999, p.120).

However, are three counterpoints to the fact of focusing in great

taxpayers: is has to be directed more resources to large taxpayers than to small ones; because

of that, the targeting in great taxpayers should be temporary; calculations refuse the common

sense does not justify that spending revenue with small taxpayers is not worth (Shome, 1999,

p.120).

Besides, the focus on large taxpayers is against the concept of vertical

equity, and that even horizontal equity suffers, when a wage earner is taxed and a self-

employed that is not, and this unequal treatment can not be accepted more than temporarily

with the risk of destroying the equity tenet (Shome, 1999, p.120).

Although some authors, like Shome (1999, p.119-120) are against the

attention of the tax administration on the great taxpayer because, in Brazil’s case it would be

necessary in some situations. For example, banks located in Sao Paulo city pay,

comparatively, much less taxes on services than self -employed professionals, because the

legislation, full of loopholes, permits that companies that are well-assisted judirically fulfill

tax elision.

32

5.2.2.2 Simplification Schemes

This kind of mechanism confirms the general belief that small

taxpayers should pay less. In Brazil, some state governments and the federal government

created some simplifying mechanisms with use of simplification regimes in which small

taxpayers can pay all taxes together with just one denominator, being a “once-for-all

contribuition”, being an important change introduced recently and which fulfills the

constitutional principle of propitiating favorable conditions to small and micro-enterprises. It

includes income and consumption taxation with one single calculation basis – the company´s

invoicing – and has brackets ranging from 3 to 10%.

It substitutes the IR (Income Tax), the CSLL, the PIS, the Cofins, the

IPI, the management´s contribution on payrolls, the quasi-fiscal contributions (that have been

zeroed), and, depending on the adhesion of the states and municipalities, the ICMS and the

ISS, respectively.

Some 1.6 million taxpayers have already adhered to it, among those

170,000 new corporations and corporations that have left the informal economy.

It encourages formalization and job creation, since management

contribution is independent of the number of employees.

But the truth is that some sectors, like the self-employed one, keep

underdeclaring their incomes, which results in a vertical inequity in many countries (Shome,

1999, p.121). This self-assessment, which is a way of taxpayers filing their tax return on their

own, presumes a mature taxpaying attitude, does not exist in every country, and can take

some time to be correctly performed. Because of that, if self-assessment occurs in a place with

high rates of tax evasion and avoidance, would be better to use more basic procedures based

on physical checks and controls so that equity and efficiency can happen. In those situations,

tax administrators do not have resources to use adequate techniques for controlling and

auditing.

5.3 Tax reform and the global economy

In some Latin American countries, the relative shares in GDP of

various economic sectors are changing over time with different economic rates among them.

With globalization, these changes have been increased, and some economies shift from

extremely regulated structures to unregulated ones, with services sector enlarging more

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rapidly than industrial sector and, in some countries, inciting agricultural activity (Shome,

1999, p. 119).

The most important characteristics of the changing world economy

that have effect on tax policy are the great mobility of capital and the growing flexibility of

production technologies. It is notorious that capital has become substantially more mobile

over the past several years, what was dramatic11 (Steinmo, 1993, p.158). This mobility is

affected by national tax systems, bringing what an OECD study called the “progressive

globalization of financial markets” (Organization for Economic Cooperation and

Development. “Economies in transition: structural adjustments in OECD countries”. Paris:

OECD, 1989b quoted by Steinmo, 1993, p.159). According to this study, globalization is

encouraging companies to allocate debt and investment strategies according to varying

national tax policies. Besides, tax policies affect rates of return and portfolio choice without

necessarily increasing saving, and international differences in tax treatments have an effect on

cross-boarder portfolio movements. For example, the differential treatment of interest

payments gives an incentive to change profits and debts with possible important implications

for individual countries’ revenue receipts. The booking of debt by multinational organizations

was an important factor in the recent tax reform in Canada and is relevant for EC countries,

mainly because of the objective of internal market unification. Tax considerations have been a

major factor behind the growth of the Eurobond and Eurocurrency markets (OECD, 1989b

quoted by Steinmo, 1993, p.159).

Some changes in production technology, communication and

transportation costs are, also, affecting the way firms locate their operations in different parts

of the world according to domestic policymakers, and this permits companies to take

advantage of domestic policies, such as tax policy, in ways that could not be imagined some

years ago, and companies extend their business among countries reflecting local advantages.

Tax policy is a fact that companies are paying closer attention to when conducting

international activities, and sometimes is the critical factor for investment decisions12

(Steinmo, 1993, p.159-160).

11 Some indication of the degree of the changes can be found in the following statistics: between 1975 and 1985 the annual turnover of the top eleven international stock exchanges grew by more than 600 percent from $236 billion to $1,578.9 billion; between 1984 and 1989 the sales of the top twenty nonoil multinational corporations grew from $486.4 billion to $966.7 billion; finally, the number of international transfers of capital from one banking institution to another has exploded from 24 million in 1978 to 680 million in 1985, a growth of 2,800 percent (Steinmo, 1993, p.159). 12 Wallace (Wallace, C.D. “Foreign direct investment in the third world: U.S. corporations and government policy”. In “Foreign direct investment in the 1990s: a new climate in the third world”, edited by Wallace, C.D. Doerdech, The Netherlands: Nijhoff, 1990 quoted by Steinmo, 1999, p.161) argues that “host government tax policies” is considered the second critical factor in foreign investment decision by American multinational

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In few words, the shifts in world economy readjusted the way

policymakers designed domestic tax policy in the 1980s. This changing context helps to

explain the rising movement toward tax reform in the United States, Britain, Sweden and an

uncountable number of other countries (Steinmo, 1993, p.160).

Brazil has extremely high rates on imports, factor that entangles the

competitiveness of the country in the world scenario, because, although the nominal rate13 on

imports in 1995 was only 2.5% for total taxes and 1.4% for sales tax, the average real rate14

was around 11.7% for total taxes and 6.7% for sales taxes (Siqueira et. al, 2000, p.29).

corporations, with 60 percent of answers, and “U.S. tax policy” is the sixth, with 53 percent. The other ones are: 1st – “projected market growth” (61%); 3rd – “host pricing controls”; 4th – “foreign exchange rates and controls on transfers (58%); 5th – “competition” (56%). 13 Nominal rate is the rate strictly defined by the legislation. 14 Real rate is the rate that some ways of calculation – like double taxation, cascading effect, etc. – have on nominal rate, increasing or decreasing it.

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6. CONCLUSION

In general, citizens and elites in any country would make similar

decisions if offered similar choices and conditions. That happens because, in many countries,

there was a necessity to increase revenue, what meets the citizens’ resistance to pay taxes. The

demand, then, was for more fair taxes with economic growth.

The pressures faced by taxing authorities everywhere since Second

World War had, as the resultant, increasing importance in taxes related to income, general

consumption, and social security taxes, which have increased both as a percentage of tax

revenue and as a percentage of GDP (Gross Domestic Product). By the other side, property,

corporation, excise and other smaller taxes have tended to decrease.

Despite the existence of general similarities, from the operational

viewpoint, neither citizens nor political elites have choices that can be considered simple and

obvious; and the real choices in one country are not likely to be offered exactly in the same

way that they are in another country. Decisions are made differently because the institutions

that offer them are diverse.

Because of that, economic development level and transformation of

each country bring different political ideas on the function of the state and the tax system

upon which it is financed, being a constant challenge the adequate combination of

population’s demand for public service and the amount of levying.

The decision to introduce or reform tax system has to be made with

the intention of adapting, reshaping and redefining a current system to a new fiscal and/or

new political context. In case of taxation, a new structure can create new policies of multiple

effects, establishing not only new policies of taxation, but also new policies of spending. It

means that the structure of a nation’s tax system has to be the result of a broad range of public

values, public attitudes, and diverse political and economical interests that define perspectives

of bureaucrats, politicians, and the role of government in aspects related to taxation.

In case of Brazil, the country had a growth in revenue at the 1990s and

at the beginning of the 2000s, being, already, considered as making part of the group of high

tax countries. Currently, it is gettinhg across an extremely crucial moment, with a tax reform

process occurring in a scenario of globalized market. Among the issues that could be raised in

Brazilian tax reform process so that it can attend both government and population’s needs are,

mainly, the following:

? what level of taxation is the most efficient so that budgets could be brought back into

balance;

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? the ICMS tax is extremely complex, with different from the 27 state regulations

actually in force and about 44 different existing rates, what can be considered as an

obstacle to international integration;

? levying relies so heavily on goods and services taxes. Besides, effective rates on goods

that are very important for low-income people, as food and clothing, are higher than

nominal rates, what demonstrates the existence of a regressive model;

? the existence disputes among states, that grant incentives by their own mainly to

attract great companies to increase employment but with damages to revenue

collections (the so-called “tax war”);

? due to multiplicity of taxes and rates, indirect taxes in Brazil should be more

transparent, being explicit to the citizen the rate and the amount of each tax that is

paid15;

? the tax burden indicates that government charges heavily on goods that should apply

exemption or have low rates. It happens, for example, to exports that, although explicit

policies that unburdem them, implicitly have charged their inputs used for goods and

services;

? income personal tax should enhance revenue generation;

? which rate on capital tax really maximize economic activity and levying, and which is

the adequate number of tax subsidies offered to particular interests;

? if social contribution on the net profit should keep the same basis as that for the

corporate income tax,

? how to cope with the high level of fiscal abdication;

? as a result of the globalization process, the difficulty in levying the corporate entity

tends to increase significantly;

? small and medium companies, the major employers in Brazil, that in the past had to

support tax burden even higher than great companies, ask for improvement of

15 An example of non-transparency is the payment of consumption tax in Brazil. When the consumer receives a receipt from one commerce, usually it is not discriminated the amount paid for the good or service and the amount paid as taxes. This means that most of population does not know that is obliged to pay taxes on consumption. This awareness could have a positive effect of increasing the consumer’s feeling of citinzenship.

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simplyfing schemes that have fairer taxes and diminishes costs associated to tax

management.

Despite of the fact that, probably, can exis t more than just one

proposal that can maximize the efficiency of a tax system, the Brazilian tax reform could

contain the following items:

? extinction of the IPI (Tax on Industrialized Products), ICMS (Tax on the Circulation

of Merchandises and Services), ISS (Tax on Services), CSLL (Social Contribution on

Net Profits), Cofins (Contribution to Finance Social Security), and PIS/Pasep (Social

Integration Program/Program of Assistance to Civil Servant).

? VAT should continue to play an important role in overall tax revenue, with the

creation of a national16 legislation for VAT on goods and services, simplifying the

system by unifying internal and interstate tax brackets and with fewer rates; and

keeping its levying and allocation of revenues decentralized at the states level to

respect federalist tenets, and exhibiting a more progressive structure;

? A national VAT will permit its harmonization with IVA adopted by many countries,

facilitanting the Brazilian international commercial integration;

? the lowest VAT rate would be defined for the transactions with food included in the

basic food basket;

? regarding interstate transactions, the ICMS tax would be collected, except for electric

energy, petroleum and its derivatives, in the state of origin of the merchandise, goods

or services;

? establishment of an excise tax, of state competence, incident on sales to end

consumers of a limited number of goods of a high collection capability and of difficult

evasion, among them tobacco, beverages, telecommunications, energy and fuels;

? the states would not be allowed to grant any tax incentive on their own - this is an

attempt to extinguish the current tax disputes between states (“tax war”);

16 National legislation is different from federal legislation. The first can oblige all levels - federal, states and municipalities – simultaneously or not, while the latter regulates only judiciary acts related to the federal government.

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? maintenance of the income tax, with brackets adjusted in conformity with the

extinction of the CSLL;

? personal income tax has to exhibit a more progressive structure;

? maintenance of the regulatory taxes: IOF, II, and IE;

? due to worldwide mobility of capital, lower taxation of it, what can improve the

international competitiveness;

? higher taxation on immobile factors of production such as land and property;

? use of green taxes (that can gain force perhaps like a global tax);

? participation of states and municipalities on all federal taxes and contributions, with a

reduction of the percentage given the widening of the collection base;

? the tax on wealth should be created through an Ordinary Law, instead of a

Complementary Law which demands a more severe voting process;

? real-estate transfer tax and transfer tax causa mortis and donations would become

progressive taxes;

? better simplifying schemes that unburden even more small and medium companies,

reducing their costs with tax management.

Given the conviction that there is the absolute need for the Brazilian

tax reform, it is absolutely necessary to emphasize that, before outlining the main aspects of

the reform, it is mandatory the existence of studies and data surveys that have to be consistent

in technical terms, which come to demonstrate the feasibility/unfeasibility of some proposals.

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Rererences

Brandão, C. Gazeta Mercantil, August 15th, 2003. September 09th, 2003.

Constituição da República Federativa do Brasil. Diário do Comércio, 15/08/03. Fenae Agora. “A mordida doi mais em quem ganha menos – injustica esta’ na regressividade do modelo tributario do pais”. 2001. http://www.fenae.org.br/fenaeagora /2001/fevereiro/cidadania.htm Gobetti, S. “Destaques ficam para a semana que vem”. O Estado de São Paulo. September 12, 2003. Haddad, R. “What the Brazilian tax reform mean”. http://gateway.proquest.com/openurl http://www.amcham.com.br http://www.economiabr.net/economia/7_historico_sistema_tributario.html http://www.fazenda.sp.gov.br http://www.imf.org http://www.portaltributario.com.br/artigos/reforma.htm http://www.receita.fazenda.gov.br http://www.sinafresp.sp.gov.br http://www.unafisco.org.br/estudos_tecnicos/estudo_arrecadacao_imposto.htm Kee, J. E. “Fiscal decentralization: theory as reform”. Working Paper Series, The George Washington University. August 2003. 34 p.

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Lavoratti, L. “Novo imposto em gestação”. Panorama Brasil. Lehner, M. “The national power of taxation and the fundamental freedoms and non-discrimination clauses of the EC Treaty”. Revista de Direito Tributário. n. 83, 1999, p. 87-101. Otoni, L.; Pereira, D.; Rodrigues, E. “Com a reforma, a carga tributária pode crescer 4,5%”. Gazeta Mercantil, Sep. 05, 2003. Rodrigues, E. “Estudo projeta aumento da carga para 41% do PIB”. Gazeta Mercantil, Sep. 05, 2003. Shome, P. “Taxation in Latin América: structural trends and impact of administration”. In: Seminário regional de política fiscal: compêndio de documentos. Brasília (DF): ESAF, 1999, p.101-132. Siqueira, R.B.; Nogueira, J.R.; Souza, E.S. “A incidencia final dos impostos indiretos no Brasil: efeito da tributacao de insumos”. 2000. www.scielo.br/pdf/rbe/v55n4/a04v55n4.pdf Steinmo, S. “Taxation and democracy: Swedish, British and American approaches to financing the modern state”. Yale University Press, New Haven and London, 1993, 280 p. Tanzi, V. “Public finance in developing countries”. Edward Elgar Publising Limited, Brookfield, Vermont, USA, 1991, 249p.